Why Bailouts do not work
I’m generally not a big fan of bailouts.
As a rule, I believe in capitalism and think the market should be allowed to take its course. Although capitalism creates winners and losers, that’s part of the game. Thomas Edison put candle makers out of work when he invented the light bulb, and donkey sales went in the tank after the Model T was invented. Despite that, life went on.
While I oppose government intervention in the free market, there is some merit to a $700 billion government bailout of Wall Street. Although the deal could blow up in our face, there’s also the possibility that the government could make a lot of money. As a taxpayer, anything that gets me off the hook is worth a second look.
Last week President Bush made his case for a bailout. He believes that the rapid decline in mortgage values and the assets backed by those mortgages has paralyzed the financial markets. Because nobody knows what anything is worth, banks have stopped lending money. Wall Street, which relies heavily on short-term financing, needs cash fast.
To give Wall Street the money it needs to get going, and to help get bad mortgages off their books, President Bush wants the federal government to step in and buy Wall Street’s distressed securities. The government would then sell these assets over time, presumably when the economy recovers.
According to President Bush, not giving Wall Street the money could lead to a total disaster. There’d be a recession, a decline in the stock market, a drop in home values, and a plague of locusts over the land. Not to mention the very real chance that both the Cubs and the Twins could make it into the World Series. Clearly, these are dark times.
The fact is the assets that the federal government would be buying are very real. With the $200 billion takeover of Fannie Mae and Freddie Mac, the government now owns or controls about $6 trillion in mortgages. Unless all the homes are in Detroit, the government is likely to make money as it sells the assets. It may take ten years, but some analysts predict that the $700 billion bailout could yield $2 trillion or more. That money could plug some holes in the budget or pay down the national debt.
Still, there are some drawbacks. The bailout is going to cost a lot of cash, and our money isn’t backed by bars of gold, silver, or chocolate. The only way we can buy anything is to print more money. That’s why when Treasury Secretary Henry Paulson announced the final bailout price tag, the price of oil shot up 25%. If the bailout becomes reality, you can expect to see some near-term inflation.
Another problem is that the bailout is bound to have a fair bit of garbage in it. There’s talk of bailing out the domestic auto makers to the tune of $50 billion. That’s hard to justify when GM has lost almost $70 billion since 2004, and Ford has mortgaged everything, including the company logo, to stay afloat. Some politicians also want to change the bankruptcy laws so people can stay in their homes even if they are unable to make their payments.
This bailout could go either way. However, I think the odds are good that the government can make money on the deal. I just wish I was making money on the deal.
Woell is a senior Accounting major and columnist for The Spectator. This column appears biweekly.